What are the consequences of introducing a corporate tax in the United Arab Emirates?
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By introducing a corporate tax, the United Arab Emirates (UAE) / Dubai notably wanted to reaffirm their commitment to complying with international standards regarding tax transparency and preventing harmful tax practices.
This corporate tax, which entered into force on June 1, 2023, is governed by the Federal Decree-Law No. 47 of 2022 on the Taxation of Corporations and Businesses (https://mof.gov.ae/wp-content/uploads/2022/12/Federal-Decree-Law-No.-47-of-2022-EN.pdf), (the "Federal Decree-Law No. 47 of 2022").
Taxable companies must now register for corporate tax (https://tax.gov.ae/en/services/corporate.tax.registration.aspx) and obtain a corporate tax registration number from the Federal Tax Authority, which is the competent authority for corporate tax.
The corporate tax return must be filed for each tax period within 9 months following the end of the tax period.
Regarding the rate applicable to this new tax, taxable income exceeding AED 375,000 will be taxed at 9%, while income below this threshold will be taxed at a rate of 0% (Article 3 of the law).
Upon reading this Federal Decree-Law No. 47 of 2022 (1.), we understand that its scope is quite broad without being absolute, which will result in subjecting a certain number of persons (1.a) while providing for exemptions subject to meeting certain conditions (1.b).
Furthermore, although taxable income (2.) is multifaceted due to the duality of the criteria for determining this income (2.a), the Federal Decree-Law No. 47 of 2022 provides for the deductibility of certain expenses, which will have the effect of reducing the tax liability (2.b).
The scope of application of Federal Decree-Law No. 47 of 2022
Although the law applies to a wide range of both natural and legal persons (a), its scope is not absolute in that exemptions are provided for (b).
a. The principle: the liability of all resident and non-resident legal and natural persons operating in the UAE/Dubai
Article 11 of the Federal Decree-Law No. 47 of 2022 lists the persons subject to corporate tax.
Thus, the tax will apply to legal persons incorporated in the United Arab Emirates and legal persons effectively managed and controlled in the United Arab Emirates, as well as foreign legal persons having a permanent establishment in the United Arab Emirates.
In this regard, the guide relating to this same law specifies that the definition of permanent establishment in the Federal Decree-Law was designed on the basis of the definition provided in Article 5 of the OECD Model Tax Convention on Income and on Capital, which allows us to refer to the OECD commentaries on this article in order to clearly grasp the outline of the concept of permanent establishment.
The Federal Decree-law defines this concept as any place of business or other form of presence of a non-resident person in the State.
As such, Article 11 of the Federal Decree-law No. 47 of 2022 defines the concepts of resident and non-resident persons.
It tells us that a resident person is a legal person incorporated or otherwise established or recognized under the applicable legislation of the State, including a person residing in a free zone, a legal person incorporated or otherwise established or recognized under the applicable legislation of a foreign jurisdiction that is effectively managed and controlled in the State, a natural person who conducts a business or business activity in the State, or a person determined in a decision issued by the Cabinet upon proposal of the Minister.
A non-resident person is defined as a person who is not considered a resident person under the previous paragraph, and who has a permanent establishment in the State, derives income from the State, or has a link with the State as specified in a decision issued by the Cabinet upon proposal of the Minister.
It is specified that the corporate tax law taxes income on both a residence and source basis.
A resident person is taxed on income derived from domestic and foreign sources (see :Article 13 of the Federal Decree-law No. 47 of 2022 ) it is therefore taxed on a residence basis, while a non-resident person is only taxed on income derived from sources located in the United Arab Emirates, so is taxed on a source basis.
While the scope of this new tax is quite broad, there are nevertheless exceptions provided for by the law.
b. The exception: the exemption of Free-Zone companies under certain conditions
Articles 4 and 18 of the Federal Decree-Law No. 47 of 2022 provide for exemption cases.
First, government or government-controlled entities will benefit from an automatic exemption.
Extractive businesses or non-extractive natural resource businesses may also be exempt upon notification to the Ministry of Finance, subject to meeting certain conditions.
Certain public benefit entities may be exempt if they are listed in a Cabinet decision.
Furthermore, pension and social security funds; certain investment funds; certain UAE subsidiaries 100% owned and controlled by a government entity, by a government-controlled entity, by an eligible investment fund or by a pension or social security fund, may also benefit from an exemption if the latter is requested and approved by the Federal Tax Authority, subject to meeting certain conditions.
Finally, a particularly interesting feature, Free Zone companies can, in accordance with Article 18 of the Federal Decree-Law No. 47 of 2022 benefit from 0% taxation on their qualifying income provided they meet the conditions of a “ Qualifying Free Zone Person ”, namely :
– Maintain adequate substance in the UAE,
– Derive qualifying income,
– Not have made the election to be subject to corporate tax at the standard rates, and,
– Comply with the transfer pricing requirements of the Corporate Tax Law.
It should be noted that taxable persons and taxable income are two separate elements, which is why it is important to know precisely what income of a taxable person may be subject to taxation.
Taxable income
Taxable income under this tax is multifaceted (a) but may be subject to deductions (b).
a. Taxable income based on residence criteria or the source of the income
The Corporate Tax Law taxes income based on both residence (see 1.a for the definition of resident/non-resident person) and the source of the income.
A resident person is taxed on income from domestic and foreign sources, thereby being taxed on a residency basis.
A non-resident person is taxed only on income from sources within the United Arab Emirates, thereby being taxed on a source basis.
In this case, Article 12 of Federal Decree-Law No. 47 of 2022 provides that a resident legal entity/company will be subject to corporate tax on its taxable income from the UAE/Dubai or abroad.
For resident natural persons, it provides that income from the UAE/Dubai or abroad is taxable if it relates to the business or commercial activity carried on by the natural person in the UAE/Dubai.
Non-resident persons, on the other hand, are subject to corporate tax on taxable income attributable to the permanent establishment of the non-resident person in the State, income from the State that is not attributable to a permanent establishment of the non-resident person in the State, and taxable income that is attributable to the nexus of the non-resident person in the UAE/Dubai as determined in a decision issued by the Cabinet.
Taxable persons may nevertheless deduct certain expenses to minimize taxation.
b. The potential deductibility of expenses
First, legitimate business expenses incurred wholly and exclusively for the purposes of taxable income, entertainment expenses, and interest expenses constitute deductible expenses.
Certain income will, however, be subject to an exemption, notably to avoid double taxation. This is the case for dividends and capital gains derived from UAE or foreign shares.
In addition, a resident person may elect, subject to certain conditions, to disregard income from a foreign permanent establishment for UAE corporate tax purposes.
Entertainment expenses may be partially deducted up to 50% of the expense amount.
Interest expenses may also, in certain cases, be deducted.
However, a certain number of expenses cannot be deducted under any circumstances.
This is notably the case for bribes, fines, and penalties (other than amounts awarded as compensation for damages or breach of contract), donations, grants, or gifts made to an entity that is not a qualifying public benefit entity, expenses not incurred wholly and exclusively for the purposes of the taxable person's business, and expenses related to corporate tax exempt income.
With the domestic framework established, it would be highly relevant to understand the implications of this tax in the presence of a foreign element relating to France.
The consequences of this new tax on potential tax schemes involving a France-UAE link
We may legitimately wonder whether the entry into force of this new tax will have an impact on the potential application of the parent-subsidiary tax regime, which was previously impossible.
The law certainly introduces a corporate tax that did not previously exist (a), however, the rate of this tax thwarts the possibility of opting for the parent-subsidiary regime (b).
a. The introduction of a corporate tax in the UAE/Dubai necessary for eligibility for the French parent-subsidiary regime
As a reminder, the advantage of opting for the parent-subsidiary regime is to allow, among other things, the parent company to be exempt from corporate tax on distributions, with the exception of a share representative of costs and expenses in accordance with Article 216 of the General Tax Code (CGI).
Thus, this regime notably makes it possible to neutralize double taxation by preventing profits taxed at the subsidiary level for corporate tax from being taxed again under this same tax at the level of the parent company receiving the dividends paid by the subsidiary.
However, the option for the parent-subsidiary regime is subject to specific conditions provided for by Article 145 of the CGI, which notably provides that: “The tax regime for parent companies, as defined in Article 216, is applicable to companies and other entities subject to corporate tax at the standard rate.”
Before June 1, 2023, since corporate tax had not entered into force, the application of this tax regime proved impossible insofar as the absence of tax thwarted the condition provided for in this Article 145 of the CGI.
While a corporate tax is now indeed in existence, another difficulty persists.
b. However, corporate taxation remains insufficient and lower than the standard rate required by French law
At first glance, we might think that the introduction of this new corporate tax will now allow the application of this regime.
However, this is not the case; the article provides for a requirement that is much stricter than merely subjecting the parent company to corporate tax, it provides for the taxation of the parent company to corporate tax at a standard rate.
In this regard, the Official Bulletin of Public Finances (BOFIP) defines the scope of the concept of standard rate: “The parent company tax regime is applicable to companies subject to corporate tax at the rate of 15% provided for in b of I of Article 219 of the CGI, which constitutes the standard tax rate, up to a limit of €38,120 of taxable profit per twelve-month period, applicable to companies meeting the turnover and capital holding conditions provided for in that article.”
Since the rate of the new tax is 9%, which is less than the standard rate of 15% provided for by the CGI and the BOFIP, the introduction of this new corporate tax as described will have no impact on the possibility of opting for the parent-subsidiary regime.
However, it will be necessary to remain vigilant regarding the evolution of this law, which could eventually provide for a higher rate and consequently broaden the scope of possible tax planning structures.
